Skip to main content
Sign in Create a free account
Varsity Tutors
Sign in

Monopsonistic Markets - Microeconomics

  1. A single large hospital is the primary employer of specialized surgical nurses in an isolated region. This allows the hospital to pay wages below what nurses with similar skills earn in more competitive metropolitan markets. The hospital's ability to exert this market power stems primarily from:
    Answer: the inelastic supply of specialized labor due to worker immobility. Monopsony power arises from a lack of competition for an input, in this case, labor. The hospital's power comes from the fact that nurses in the region have few, if any, alternative employers for their specialized skills. This geographic and professional isolation makes the labor supply curve faced by the hospital relatively inelastic, meaning nurses cannot easily switch jobs in response to lower wages. This inelastic supply is the source of the monopsony power.
  2. Firm A and Firm B are both monopsonists in their respective labor markets and face identical labor supply conditions. Firm A sells its product in a perfectly competitive market, while Firm B is a pure monopolist in its product market. Assuming all else is equal, which of the following is most likely to be true?
    Answer: Firm B will hire less labor and pay a lower wage than Firm A. When analyzing firms with different market structures, you need to consider how their position in both labor and product markets affects their hiring decisions and wage-setting behavior. Both firms are monopsonists (single buyers) in their labor markets, so they have market power over workers and will hire where marginal revenue product (MRP) equals marginal cost of labor (MCL). However, their product market structures create crucial differences in their MRP curves. Firm A operates in perfect competition, so it sells output at the market price. Firm B is a monopolist, meaning it faces a downward-sloping demand curve and must lower prices to sell more units. This gives Firm B a lower marginal revenue than Firm A at any given output level. Since MRP=MPL×MRMRP = MP_L \times MR, Firm B's MRP curve lies below Firm A's MRP curve. When both firms equate MRP with their identical MCL curves, Firm B will hire fewer workers at the intersection point, which also corresponds to a lower wage on their identical labor supply curves. Choice A incorrectly suggests Firm B hires more labor and pays higher wages - this reverses the actual relationship. Choice B wrongly claims both firms hire the same amount of labor; the different MRP curves ensure different hiring levels. Choice C compounds this error by also claiming identical wages, ignoring how monopoly power in the product market reduces labor demand. Remember: A firm's product market power indirectly affects its labor market behavior. Monopolists have lower marginal revenue, leading to reduced labor demand compared to perfectly competitive firms, even when facing identical labor market conditions.
  3. Based on the labor supply and marginal revenue product data from the previous question, what hourly wage will the profit-maximizing monopsonist pay?
    Answer: $14 From the analysis in the previous question, the profit-maximizing quantity of labor is 3 workers. The wage a monopsonist pays is determined by the labor supply curve at the profit-maximizing quantity. According to the table, to hire 3 workers, the firm must pay a wage of $14 per hour. It is a common error to choose the MFC ($18) or the MRP ($22) as the wage.
  4. A key difference between a monopsonist and a perfectly competitive employer is that for the last worker hired by a monopsonist, the marginal revenue product (MRP) is greater than the wage paid. This gap occurs primarily because:
    Answer: the firm must raise the wage for all workers to hire one more, making MFC exceed the wage. The monopsonist faces the entire upward-sloping market labor supply curve. To hire an additional worker, it must offer a higher wage not only to the new worker but to all existing workers as well. This makes the marginal factor cost (MFC) of the additional worker—the total increase in labor costs—greater than the wage paid to that worker. The firm maximizes profit by hiring until MRP = MFC. Since MFC > Wage, it must be that MRP > Wage for the last worker hired.
  5. A firm with monopsony power in the labor market faces an inverse labor supply curve of W=5LW = 5L and a marginal revenue product curve of MRP=120−5LMRP = 120 - 5L. How many units of labor will the firm hire to maximize its profit?
    Answer: 8 To find the profit-maximizing quantity of labor, the monopsonist sets its marginal factor cost (MFC) equal to its marginal revenue product (MRP). First, find Total Factor Cost (TFC) = W L = (5L) L = 5L25L^2. Next, find MFC by taking the derivative of TFC: MFC = 10L. Now, set MFC = MRP: 10L = 120 - 5L. Solving for L gives 15L = 120, so L = 8. The most common error is to set supply equal to MRP (5L = 120 - 5L), which yields the competitive employment level of L=12.
  6. If a government imposes a binding minimum wage in a monopsonistic labor market, which of the following outcomes is possible under certain conditions?
    Answer: Both the level of employment and the market wage will increase. When you encounter questions about minimum wage policies in different market structures, remember that the effects depend critically on whether the labor market is competitive or has monopsony power. A monopsonist is a single buyer of labor who can influence wages by hiring fewer workers, typically paying below the competitive wage. In a monopsonistic labor market, a carefully set minimum wage can actually increase both employment and wages simultaneously. Here's why: monopsonists normally restrict hiring to keep wages artificially low. When a binding minimum wage is imposed at the right level—above the monopsony wage but not too high—it forces the firm to pay more per worker while potentially making it profitable to hire additional workers. The minimum wage essentially eliminates the monopsonist's ability to suppress wages, moving the market closer to competitive outcomes. Option A incorrectly assumes employment must fall, which would be true in competitive markets but not necessarily under monopsony. Option B suggests unemployment decreases while firm profits increase—this contradicts basic economic logic since higher wages and employment both increase the firm's labor costs. Option C proposes that employment rises while wages fall, which is impossible when implementing a binding minimum wage that by definition sets wages above the current level. The key insight for exams: minimum wage effects differ dramatically between competitive and monopsonistic markets. In competitive markets, minimum wages typically reduce employment. In monopsonistic markets, they can increase both wages and employment by correcting market power distortions. Always identify the market structure first.
  7. A monopsonist faces a labor supply curve given by the equation W=10+LW = 10 + L, where L is the number of workers and W is the hourly wage. The firm's marginal revenue product of labor is given by MRP=70−2LMRP = 70 - 2L. What wage will this profit-maximizing firm pay its workers?
    Answer: $25 First, derive the Total Factor Cost (TFC): TFC = W L = (10 + L) L = 10L + L2L^2. Second, find the Marginal Factor Cost (MFC) by taking the derivative of TFC with respect to L: MFC = 10 + 2L. Third, set MFC equal to MRP to find the profit-maximizing quantity of labor: 10 + 2L = 70 - 2L, which simplifies to 4L = 60, so L = 15. Finally, substitute L=15 back into the labor supply equation to find the wage: W = 10 + 15 = $25.
  8. If both companies face identical upward-sloping labor supply curves in their respective market segments, and each has the same marginal revenue product function, which statement best describes the long-run equilibrium compared to a single monopsonist controlling the entire market?
    Answer: Employment will be higher and wages will be higher due to reduced monopsony power per firm With two separate monopsonists, each faces a more limited labor supply than a single monopsonist would face for the entire market. Each company's individual labor supply curve is steeper (less elastic) than the combined market supply curve would be. However, the key insight is that each firm operates independently and cannot fully exploit the entire market's monopsony potential. When monopsony power is divided between two firms, each has less ability to suppress wages and employment than a single unified monopsonist would have. The segmentation creates some implicit competition - if one firm's wage becomes too low relative to the other, workers may attempt to switch (even if imperfectly). This results in higher employment and higher wages compared to unified monopsony control. Choice A incorrectly suggests wages would be lower. Choice B incorrectly suggests employment would decrease. Choice C ignores the important difference between unified and divided monopsony power.
  9. A profit-maximizing monopsonist is considering hiring one additional worker. To attract this worker, the firm must increase the hourly wage from $15.00 to $15.10 for all its employees. The firm currently employs 50 workers. The marginal factor cost (MFC) of hiring the 51st worker is:
    Answer: greater than $15.10, because the firm must also pay the higher wage to its current workers. The marginal factor cost (MFC) is the change in total factor cost from hiring one more worker. The new total factor cost is 51 workers $15.10/worker. The old total factor cost was 50 workers $15.00/worker. The MFC is (51 $15.10) - (50 $15.00) = $770.10 - $750.00 = $20.10. This cost consists of the $15.10 paid to the new worker plus the $0.10 raise given to each of the 50 existing workers (50 * $0.10 = $5.00), for a total of $15.10 + $5.00 = $20.10. This value is greater than the new wage of $15.10.
  10. Consider a town where a single large factory is a monopsonistic employer. If the factory's workers form a strong union and negotiate a wage through collective bargaining, the resulting market structure is a bilateral monopoly. Compared to the initial monopsony outcome, a successfully negotiated wage could lead to:
    Answer: a higher wage and a potentially higher level of employment. In a bilateral monopoly, a single seller (the union) faces a single buyer (the monopsonist). The union will negotiate for a wage higher than the monopsony wage. If the negotiated wage is set at a level between the original monopsony wage and the competitive wage, it can increase employment by moving the outcome closer to the competitive equilibrium. If the wage is set too high (above the competitive level), employment will fall. Thus, the wage will be higher, but employment could be higher, lower, or the same, depending on the negotiated wage.
  11. In a monopsonistic labor market, the firm's marginal revenue product is given by MRP=50−LMRP = 50 - L and the labor supply is W=20+LW = 20 + L. To increase employment above the unregulated monopsony level, which of the following minimum wages would be effective?
    Answer: $32 First, find the unregulated monopsony outcome. TFC = W*L = (20+L)L = 20L + L2L^2. MFC = d(TFC)/dL = 20 + 2L. Set MFC = MRP: 20 + 2L = 50 - L => 3L = 30 => LmL_m = 10 workers. The monopsony wage is WmW_m = 20 + 10 = $30. At L=10, the value of MRP and MFC is 20 + 2(10) = $40. A minimum wage can increase employment if it is set above the monopsony wage ($30) but not above the value of MRP at the monopsony quantity ($40). Let's test the options. A wage of $32 is in the range ($30, $40]. At W_min = $32, the firm will hire where MRP = $32, so 50 - L = 32 => L = 18. This is more than 10 workers, so employment increases. A wage of $25 is below the monopsony wage and thus ineffective. A wage of $42 is above $40, so the firm hires where MRP = 42 => 50-L=42 => L=8, which is a decrease in employment.
  12. Assume a firm operates in a monopsonistic labor market. If this market were to become perfectly competitive, what would be the expected change in the equilibrium wage and level of employment?
    Answer: Both the wage and employment would increase. A monopsonist restricts the quantity of labor hired to Lm (where MFC=MRP) to pay a lower wage Wm (from the supply curve). In a perfectly competitive labor market, firms hire until Lc (where Supply=MRP), and the wage is Wc. Graphically, the competitive outcome (Lc, Wc) involves a higher wage and a higher level of employment than the monopsony outcome (Lm, Wm). Thus, a shift from monopsony to perfect competition would cause both the wage and employment to increase.
  13. A single logging company is the only employer in a remote mountain town, making it a monopsonist. In a nearby coastal city, many logging companies compete for workers. The elasticity of labor supply faced by the mountain company is likely to be _______, which gives it _______ monopsony power relative to a company in the city.
    Answer: relatively inelastic; significant Monopsony power is the ability of a single buyer to influence the price of an input. This power is greater when the supply of the input is more inelastic. In the remote town, workers have fewer alternative employers, so their supply of labor is relatively inelastic (less responsive to wage changes). This inelasticity allows the company to pay a lower wage than it would in a competitive market. In the city, workers have many options, so the supply of labor to any single firm is relatively elastic, limiting its monopsony power.
  14. A monopsonist's marginal revenue product of labor is MRP=90−LMRP = 90 - L, and it faces a labor supply curve of W=LW = L. What is the value of the deadweight loss created by this monopsony?
    Answer: $225.00 First, find the monopsony outcome: TFC = L*W = L2L^2, so MFC = 2L. Set MFC = MRP => 2L = 90 - L => 3L = 90 => LmL_m = 30. The monopsony wage is WmW_m = 30. Second, find the competitive outcome: Set Supply = MRP => L = 90 - L => 2L = 90 => LcL_c = 45. The competitive wage is WcW_c = 45. The deadweight loss is the area of a triangle. The height of the triangle is the difference in quantity (Lc - Lm = 45 - 30 = 15). The base is the difference between MRP and the wage at Lm. At Lm=30, MRP = 90 - 30 = 60, and W = 30. So the base is 60 - 30 = 30. The area is 0.5 base height = 0.5 30 15 = $225.
  15. A company currently employs 20 equally productive workers at a wage of $100 per day. To attract a 21st worker, the company finds it must offer a wage of $102 per day to all its workers. What is the marginal factor cost (MFC) of the 21st worker?
    Answer: $142 The marginal factor cost (MFC) is the change in the total factor cost (TFC). The original TFC is 20 workers × $100/worker = $2,000. The new TFC is 21 workers × $102/worker = $2,142. The MFC of the 21st worker is the difference: $2,142 - $2,000 = $142. Alternatively, the MFC is the wage of the new worker ($102) plus the cost of the raise for the existing 20 workers (20 × ($102 - $100) = 20 × $2 = $40), which is $102 + $40 = $142.

Start this quiz